‘Housing: Supply, affordability and investment’ – Address to the Committee for Economic Development of Australia

The 1997 hit movie The Castle was a great success because it tapped deep into the Australian psyche. A story about a man and his love for his home. To Darryl Kerrigan, his house was not just ‘a structure of bricks and mortar’, but a physical manifestation of a secure loving family.

Some eighteen years later what remains constant is that home ownership, and the related issues of housing supply, investment and ultimately affordability remains integral to the Australian dream. Much else, however, is changing.

In the days of The Castle, twenty years ago, 85% of first time buyers with mortgages purchased detached homes. While the overwhelming majority still do at 78%, there has been a clear drift from detached to medium and high density living. Furthermore it would appear that over the last decade, based on a falling share of approved home loans, first home owners are declining as a proportion of the total property market, while the average loan size for this group has increased over the same period by 58% to $332,000.

From the mid 1990s and early 2000s, house prices were between three and a half to four and a half times average annual earnings, but by 2003 this had risen to a ratio or five times or more.

Undoubtedly the factors affecting housing affordability are complex. The cost of finance, land supply, population growth, associated infrastructure, state planning and local government regulations, stamp duty and other tax arrangements all play a role.

The state and territory governments have primary responsibility for housing, and along with local governments, have immediate control over many policies that directly affect housing supply. Indeed there is evidence to suggest that housing supply has not kept pace with population growth in recent years. Between 2005 and 2013 Australia’s population grew at an average annual rate of 1.7%, one of the highest in the OECD. However housing stock grew at only 1.5% over the same period. The cumulative gap, between underlying demand for dwellings compared to the supply of dwellings, was approximately 228,000 by June 20117 and this does not take into account investor demand.

In addition, the cost of building is sometimes overlooked as a factor in housing affordability. The relatively recent decision by the new Andrew’s Government in Victoria to abolish the Construction Code and its compliance unit will have significant and far reaching ramifications on the cost of building in this State. If we see delays to construction increase as a result of Premier Andrew’s decision to abolish the Code then the cost will flow through the industry and will ultimately end up with the consumer. A conservative estimate, based on days lost to disputes before and after the Code, is that this decision will cost Victorians around $200 million in just three years.

Similarly, at a Federal level, the decision by the former Labor Government to block the reintroduction of the Australian Building and Construction Commission (ABCC) is hard to believe. Under the ABCC, during the Howard Government, working days lost from disputes in the construction industry fell by over 80%.

Generally speaking the Commonwealth has few direct policy levers with which to affect supply. Taxation arrangements for land and housing obviously impact the housing market and the Tax White Paper process will provide an opportunity for people to put their views on this.

However residential housing has been, and will always be an issue that is at the forefront of community debate and discussion. And in this context, the role of foreign investment in the housing market is raised on occasion.

To this end, in March of last year, the Treasurer tasked the House Standing Committee on Economics to inquire into foreign investment in residential real estate and to advise as to whether the framework, as administered by the Foreign Investment Review Board (FIRB), could be enhanced.

Currently the framework seeks to channel foreign investment in residential real estate into new dwellings in order to increase the housing stock for Australians to build, buy or rent. Foreign investment is encouraged in new dwellings whether they be apartments, units or homes because in addition to creating more supply, it also creates more jobs for the building and construction sector – all of which helps to grow our economy.

Non resident foreign investors, while they can purchase new dwellings cannot generally purchase existing dwellings. Applications to purchase new dwellings are therefore generally granted, while applications to purchase existing homes are only granted if the purchaser is a temporary resident.

So who is a temporary resident and what are the rules? Temporary residents in Australia, that is those people who have a visa to reside in Australia for over 12 months, are allowed to purchase an existing dwelling as a home but they must divest that home within 3 months of leaving the country at the expiry of their visa.

All foreign investors in residential real estate must apply for approval from the FIRB prior to purchase.

According to the most recent FIRB statistics, last financial year, FIRB approved foreign investment into residential property of around $34 billion, double the $17 billion approved during 2012-13. Much of this investment is concentrated in the Melbourne and Sydney markets. Approximately 80% of total investment is attributable to new property, which at over $27 billion 2013-14 is 170% higher than 2012-13. The total number of established property approvals for 2013-14 is nearly 8,000 as compared to just over 5,000 for 2012-13.

Over six public hearings, and after considering more than 92 submissions, the Economics Committee had four key findings that translated into 12 practical recommendations.

First, there is no accurate or timely data that tracks foreign investment in residential real estate. No-one really knows how much foreign investment there is in residential real estate, nor where that investment comes from.

As such Committee recommended a national register of land title transfers that records the citizenship and residency status of all purchases of Australian real estate. This would enable facts to be injected into discussions about foreign investment, rather than ‘best guestimates’ and anecdotal stories. A national register would also help with compliance and enforcement with the foreign investment framework – allowing data to be compared easily.

The committee concluded that other relevant government information should also be captured and made available to FIRB. At present, FIRB cannot access data from the Department of Immigration and Border Protection on departing visa holders. Given the government has this information, this makes no sense. Together, these initiatives would allow authorities to track departing visa holders who may have purchased an existing home but who, under current rules, need to sell that home within three months of leaving.

Second, the committee found that there has been a significant failure of leadership at FIRB, which was unable to provide basic compliance information to the committee about its investigations and enforcement activity.

During the course of the inquiry, it came to light that no court action had been taken by FIRB since 2006. During the entire previous Government, not one divestment order was issued, which means not one government sale of illegally acquired property was made. This compares with 17 divestment orders between 2003 to 2007 when foreign investment in residential real estate was at much lower levels. FIRB was also unable to provide basic data on voluntary divestments.

It defies credibility that there has been universal compliance with the foreign investment framework outlined above since 2007 especially when you consider foreign investment has increased.

The Committee was clear in its report that the systems failure at FIRB needs to be repaired; and new resources injected into FIRB to ensure better audit, compliance and enforcement outcomes.

Thirdly the committee found that, if you are not prepared to enforce the rules, then it is less likely that people will comply with the rules. This is especially true if the consequences of a breach are not meaningful.

The Committee found that there were loopholes in the current framework – that far from penalising individuals who made illegal purchases, in some instances it rewarded them.

Let me give you an example. If a non-resident foreign person purchased an existing home this would be contrary to the rules. Just as it would be if that non-resident foreign person purchased multiple existing homes.

Under the current regime, if FIRB found out and successfully divested that person of those properties – and those properties had appreciated in value from the time of purchase to the time of sale, that non-resident foreign investor would get to keep the windfall gain.

Clearly this loophole needs to be closed.

The ability to sanction people who have breached the foreign investment framework more easily is critical. Hence the need to bring in a civil penalty regime for breaches of the foreign investment framework; along with the need to capture those people, who have previously stood outside the framework but materially impact the integrity of our foreign investment regime. For instance, third parties who knowingly assist foreign investors to breach the rules.

As explained bore, currently non-resident foreign investors can profit from the illegal purchase of property. Given this, the current financial penalty that can be applied to a property, regardless of its value, was seen by many who gave evidence to the inquiry as simply the ‘cost of doing business’. Fines and pecuniary penalty orders should directly relate to the value of the property concerned. Furthermore investors who breach the framework should not be able to profit.

Fourth, the Committee expressed concern that currently the Australian taxpayer foots the bill for the administration of FIRB and its support staff, not the foreign investors applying for approval. This has arguably contributed to underinvestment in FIRB’s audit, compliance and enforcement activities.

Just as some other regulators adopt a user pays model, the committee recognised that a modest administration fee can be implemented to fund enhanced audit, compliance and enforcement capacity within FIRB, as well as other new measures outlined in the recommendations. To this end it had the Parliamentary Budget Office undertake modelling that suggests that a modest application fee of $1,500 would have no market behavioural impact.

Together, these practical recommendations of the Committee would send a strong message about Australia’s commitment to its foreign investment framework in practice, as well as in words.

The Government recognises that this is important.

Too often the signals in recent years have been in the opposite direction. For instance, in 2008, the then Assistant Treasurer, the Hon Chris Bowen MP, removed the requirement for temporary residents to notify FIRB of all residential purchases. This rule change allowed temporary residents to purchase existing homes without notifying FIRB. How many temporary residents would have realised that they were limited to the purchase of only one established home? How many would have thought that the condition on the sale of property on departure was still going to be enforced?

Perhaps recognising that this neutered FIRB’s capacity to monitor compliance with the foreign investment framework, his successor, Senator the Hon Nick Sherry, reversed the change and announced a range of proposed measures to tighten monitoring and enforcement in the lead up to the 2010 election.

Regrettably, with the exception of a dob in telephone line, none of those announced measures were pursued by his successor, the Hon Bill Shorten MP, nor any of the subsequent Assistant Treasurers in the last Government.

The Committee ultimately concluded that the current foreign investment framework should be retained, specifically, the distinction between the treatment of new and existing dwellings. But that in practice the regime had been undermined due to poor data collection, along with a lack of audit, compliance and enforcement action by FIRB, and loopholes in the framework.

The report and its findings were tabled in the Parliament in the November last year.

The Government will shortly be responding to the recommendations. In line with good public policy development the Government will be consulting on proposed changes prior to their implementation. I look forward to your engagement in this important area of policy.

In conclusion, Australians are entitled to expect that foreign investment rules are properly enforced and the committee’s recommendations would strengthen the Government’s ability to do this.

Together, such changes to the foreign investment policy would put us in a strong position to encourage investment where it makes sense, without doing damage to the dreams of all Australians to own their own castle.